The following essay is an example of how the market economist and single payer advocate can look at the same data and problems and analyze it so differently. Below is a link to Robert Kuttner's February 8, 2008 New England Journal of Medicine article "Market Based Failure--- A Second Opinion on U.S. Health Care Costs"

Below is Dr. Lanzalotti's market based essay analyzing the same data showing different causes and solutions from Mr. Kuttner's single payer point of view.

Market Failure — A New Opinion on U.S. Health Care Costs

John A. Lanzalotti, M.D.

U.S. health care expenditures rose 6.7% in 2006, the government recently reported. According to the Centers for Medicare and Medicaid Services, total health care expenditures exceeded $2.1 trillion, or more than $7,000 for every American man, woman, and child.1 Medicare costs jumped a record 18.7%, driven by the same inefficient financing system used in the private sector. Total health care spending, now amounting to 16% of the gross domestic product, is projected to reach 20% in just 7 years.

Relentless medical inflation has been attributed to many factors. Among those mentioned, the aging population, is not deliberately reversible. Another factor often mentioned, the proliferation of new technologies, does not cause inflation, rather new technologies introduce new efficiency. An MRI is less expensive than an exploratory laparotomy and a week stay in hospital. It is the inappropriate overuse of technology that inflates the costs of health care delivery. This over utilization, as well as all of the other twenty- two cost drivers, is the result of perverse incentives which derive from the design of our current financing system, third party payment, our fragmented procedure driven delivery system, and the domestic mercantile economy that exists in American health care. It is these perverse incentives which lead to poor health quality and the tendency of supply (physicians, hospitals, tests, pharmaceuticals, medical devices, and novel treatments) to generate its own demand. Tax-favored employer based insurance coverage together with high insurance premiums leads to many Americans being uninsured. Inflated premium costs is found equally in both the public sector (Medicare, Medicaid, Tri-care, VA medicine), and the private insurance sector. Each American household is taxed over $1,200 to pay the costs associated with defending frivolous lawsuits, jackpot jury awards, and the costs associated with defensive medicine. This crisis is threatening quality of care; it is threatening access to care for all Americans 2

Here is a new second opinion on medical inflation. The extreme failure of the United States to contain medical costs results primarily from our unique, pervasive mercantile system that fails to change our current finance design of American health care in both the public and private sector. Domestic mercantile systems are characterized by a government-industrial complex with government subsidies to industry as well as protectionist policies that protect profits and empower private industry. It is a zero sum game. Industry wins but the provider and consumer loses. Government benefits from lobby money from these same industries. In a mercantile system, the consumer doesn’t count, only production and profits count. There is nothing inherently wrong with profits. It is the engine that makes the market work. It is the resulting power imbalance that causes market dysfunction. We do not have a market based system in American medicine. The dominance of both government public funded insurance ( which is a single payer) as well as for-profit insurance and pharmaceutical companies, a new wave of investor-owned specialty hospitals, and profit-maximizing behavior even by nonprofit players raise costs and distort resource allocation. Profits, billing, marketing, and the gratuitous costs of these protected bureaucracies siphon off $400 billion to $500 billion of the $2.1 trillion spent. Cost shifting due to care for the uninsured and from under-market payments by both public and private insurance results in another $200 billion dollars a year shifted to and paid by the American taxpayer. But the more serious and less appreciated syndrome is the set of perverse incentives produced and maintained by mercantile economic dominance of the system.

Markets will optimize efficiencies. Competition is the key to cost containment. But this will never happen within our current paradigm of mercantile health care finance and delivery with its third-party payers and its fragmented, procedure driven delivery system. Third party payment with its perverse incentives for over-consumption and over-utilization does not lend itself to market discipline. Why not? Because it is always easier to spend someone else’s money than it is to spend your own. Market forces can not operate here.

Both the current public and private insurance system's main techniques for holding down costs are practicing third party rationing by limiting the services covered, price controls by constraining payments to providers, and shifting costs to patients. But given the system's fragmentation and perverse incentives, much cost-effective care is squeezed out, resources are increasingly allocated to costly, inefficient and opaque administrative and regulatory procedures and central organizational overgrowth with un-necessary and in-efficient micro-management of physicians as well rather than medical need. The system wastes money on unnecessary premium care workups for all patients, and inappropriate use of expensive technology. Other inefficiencies include information failures, inefficient moral hazard issues, adverse selection, distorted incentives, inflated hospital and pharmaceutical pricing and cost shifting. Many attainable efficiencies are not achieved. We also use medicines and technologies that cost a lot for little or no marginal health benefit. Administrative expenses are high, and enormous sums are squandered in efforts to game the system. Given the mercantile emphasis on production and the ignored consumer it is no wonder that between one fifth and one third of medical outlays do nothing to improve health.

Great health improvements can be achieved through basic public health measures and a market based approach to wellness and medical care. But under our current paradigm of both public and private insurance, providers have neither the incentive nor the time to provide these services. Those who need them most are the least likely to have insurance in our current system. Studies have shown that preventive care for conditions such as diabetes, asthma, and elevated cholesterol levels, use of clinically proven screenings such as annual mammograms, provision of childhood immunizations, and changes to diet and exercise can improve health and prevent larger outlays later on. Comprehensive, market based universal access, where everyone is not only covered with a more efficient health insurance system but has equal purchasing power to be able to pay fair market value for their health care goods and services, is needed. Lump sum insurance payment needs to replace third party payment to correct current perverse incentives that fragment health care delivery, over-consume and over-utilize to pursue the most profitable treatments rather than those dictated by medical need. The growth rate of medical expenditures has been slowest in nations with universal health insurance systems. However they are the most expensive health care systems and use massive third party rationing. They provide no incentives for the physicians to work and there is no incentive for innovation. Because there is no competition, quality of care is low. Single payer system is a high priced way of delivering routine care but cannot compete with American care for innovative, complicated treatment of life threatening disease.

Many U.S. insurers claim to reward physicians for following standard clinical practices, but these incentives do not aggregate to an efficient national system of care. This occurs because like the consumer, the physician does not count in the mercantile system. After more than three decades of managed care — and the same three decades of studies by Wennberg and colleagues identifying wide variations in practice patterns — consistent practices are still far from the norm.3 Medical practice will never be consistent, nor should it be. There is much individual variation among patients. Only that patient’s physician knows what is best for that patient at any one moment in time. We don’t need to force all physicians to be automatons responding to a one size fits all single payer system. Rather we need to replace the perverse incentives of the current system with proper incentives and design the market institution to be win-win for all participants so that the physician can do what he was trained to do--- treat the patient appropriately and cost efficiently.

Managed care and our current single payer government system is not fixing what's broken. Cookbook medicine doesn’t contain costs. All current cost containment strategies are failing.

Under the misguided current paradigm in both private and public insurance, cost-containment efforts have fallen heavily on physicians, who have seen caseloads increase and net earnings stagnate or decline. A popular strategy among cost-containment consultants relies on the psychology of income targeting. The idea is that physicians have expected earnings — an income target in order to financially maintain their practice. If the insurance plan squeezes their income by reducing payments per visit, doctors compensate by increasing their caseload and spending less time with each patient. This false economy is a telling example of the myopia of Medicare, Medicaid and managed care. It may save the plan money in the short run, but as any practicing physician can testify, the strategy has multiple self-defeating effects.

A doctor's most precious commodity is time — adequate time to review a chart, take a history, truly listen to a patient. You can't do all that in 10 minutes. Yet all current insurance , with Medicare being the worse, continue to waste the doctor’s time with more and more paperwork requirements. Doctors beset with these paperwork problems are more likely to miss cues, make mistakes, and order more tests to compensate for lack of time for hands-on assessment. The current system emphasizes specialist care even though ninety percent of the time it is not needed. Generalists, who have been reduced to minimal pay triage functionaries, are also more likely to make more referrals to specialists for procedures they could perform more cost-effectively themselves, given adequate time and compensation. And the gap between generalist and specialist pay is widening.4

A second cost-containment tactic is to hike deductibles and co-payments, whose frank purpose is to dissuade people from going to the doctor, another self defeating false economy. But sometimes seeing the doctor is medically indicated, and waiting until conditions are dire costs the system far more money than it saves. Moreover, at some point during each year, more than 80 million Americans go without coverage, which makes them even less likely to seek preventive care.5 This is yet another self defeating strategy.

The current third party payment, fee for procedure system also has inflationary effects on hospitals' revenue-maximization strategies. Large hospitals, which still have substantial bargaining power with insurers, necessarily cross-subsidize services. The emergency department may lose money, but cardiology makes a bundle. So hospitals fiercely defend their profit centers, each investing heavily in facilities for lucrative procedures that will attract physicians and patients. For the system as a whole, it would be far more cost-effective to shift high cost resources to a central location that can be used by several competing hospitals. But as in all mercantile systems, its protectionist policies distort cost-effective resource allocation

Proper economic incentives in a functional market based economy are the only thing that will work. But since we don’t have a market economy but rather a mercantile system, incentives work in perverse ways. Both the privately and publicly regulated medical market is signaling pressured physicians to behave more like entrepreneurs, inspiring some to defect to "boutique medicine," in which well-to-do patients pay a premium, physicians maintain good incomes, and both get leisurely consultation time. It's a convenient solution, but only for the very affluent and their doctors, and it increases overall medical outlays and creates a two tiered health system.

Other doctors opt out by becoming proprietors of specialty hospitals, usually day surgeries. In principle, it is cost-effective to shift many procedures to outpatient settings that are less expensive but still offer high-quality care. In a government-organized universal system, day hospitals will have a perceived parasitic relationship with community hospitals, which retain the hardest cases and give up the remunerative procedures needed to subsidize those which lose money. In a market based system resources and profits will be allocated appropriately between hospital and outpatient canters with all providers being paid in full on the day of service at fair market value ( equilibrium price).

A comprehensive functional market based system is far better positioned to match resources without price controls or rationing care. It is the current U.S. mercantile system that has the most de facto rationing — high rates of un-insurance, exclusions for preexisting conditions, excessive deductibles and co-payments, and shorter hospital stays and physician visits.) A universal protocol insurance market based system suffers far less of the feast-or-famine misallocation of resources driven by our current mercantile system. It also saves huge sums that our current system wastes on administration, physician micro-management, billing, marketing, excessive executive compensation, and risk selection signing up only the healthy and wealthy leaving the sick and poor to be paid at the maximum rate by the American taxpayer..

Despite our crisis of escalating costs, dwindling insurance coverage, and deteriorating conditions of medical practice, universally used protocol health insurance could be mediated by private insurers and reverse this trend. Because protocol insurance replaces third party payment with lump sum payment to a patient’s tax favored account from which the patient pays directly for all health care goods and services, it eliminates all of the reversible perverse incentives of the current system, and has all of the advantages of a single payer system with none of the disadvantages but rather all of the advantages of a free enterprise market system..

Under the new paradigm the legacy of our current mercantile health care system, the immense power of the insurance and pharmaceutical industries, the political fragmentation and ambivalence of the medical profession, the intimidation and corruption of politicians will disappear and in its place will be a functional win-win market based system where market power will be on a level playing field.

Adam Smith wrote An Inquiry into the Nature and Causes of the Wealth of Nations 1776 as a solution to the Mercantile system. We have never given his classical economic market system a chance in health care. There have been many attempts over the twentieth century at market reform in health care. Each time they were thwarted by a powerful stakeholder, the AMA, the insurance industry, government bureacratics etc. resulting in persistence of the mercantile system and market failure. Sometimes, we Americans do the right thing only after having exhausted all other alternatives. It remains to be seen how much exhaustion the health care system will suffer before we turn to a functional market based health care system with its reformed and efficient insurance and properly designed market institution so that all market participants will be equally empowered on a level playing field.

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Source Information

John A. Lanzalotti, MD is Policy Director and a senior fellow at The Jeffersonian Health Policy Foundation, a Virginia–based economic, health and public policy research foundation.